Why it's time for a change of strategy

As the privatised water utilities turn 21, the English and Welsh industry is at a pivotal point of change. Regina Finn, Ofwat's chief executive officer, shares the regulator's perspective on the way ahead for water and sewerage

England and Wales have come a long way since the water and sewerage sectors were privatised 21 years ago. In 1989, polluted beaches and rivers and a neglected infrastructure meant the UK was seen as the 'dirty man of Europe'.

In 1990, less than 80% of England and Wales's bathing waters met the required standards. The sector needed significant investment, yet taxpayers had little appetite for spending more. Water companies were seen as inefficient, and there was little incentive for them to improve standards of service. Privatisation of the sector has tackled these challenges head on. Now there are salmon in the Mersey, more than 100 Blue Flag beaches, leakage is down a third since its mid-90s peak and drinking water is recognised as up there with the best in Europe.

To get there, the water and sewerage companies have invested about £90 billion between 1989 and 2010 - double the rate of investment before privatisation. Yet we have kept bill increases down by driving out inefficiencies from both sectors, with bills being 30% lower than they would have been without our regulation. A litre of tap water delivered and taken away costs less than a penny.

And where customers have been let down, we have taken action. In the last five years water companies have had to pay out more than £500M from their own pockets where they have failed their customers.

New challenges aheadOur approach to regulation, with its combination of incentives and tough targets, has worked well. With these successes behind us it might be tempting to simply crank the handle again when we come to setting price limits in 2014. But that approach will no longer keep delivering. The solutions of the past won't meet the challenges of the future because those challenges are different.

We face a changing and more unpredictable climate and that is impacting on our water resource. For the last four years we have had either a drought or a flood every year, and last year we had both in the one year. And we are facing significant population growth, particularly in south-east England where water is already scarce. We must be able to meet the water needs of those people. At the same time we need to meet rising environmental standards, including the implementation of the EU Water Framework Directive. All of this, against a background of economic uncertainty and the consequent affordability issues this raises. So we must start to do things differently.

Future regulationThis is why, at the end of 2009, we announced our future regulation programme. It is a root and branch review of how we regulate, considering whether there are better, more sustainable, ways of doing things.

We are lucky; we have the success of the past to build on and we have a unique window of opportunity in which to develop our approach to future challenges. We need to make sure we are in the best position to deliver sustainable water - socially, economically and environmentally - both now and in the long term.

The year 2010 was spent building consensus about the challenge we face, developing our thinking and gathering and incorporating feedback from our stakeholders. This has been invaluable, as we are still at the stage where we are looking to ask questions and explore options rather than deliver answers. Looking forward, 2011 is a crucial year. David Gray's independent review of Ofwat will be published in the spring and his conclusions will feed into the Water White Paper in the summer. And by autumn 2011 Ofwat plans to pull together details of how price limits might be set and consult on high-level framework principles. Although we are not at the stage where we have drawn conclusions, we can give you some idea of Ofwat's direction of travel by looking at our regulatory compliance project.

Reducing the regulatory burdenFrom June returns and regulatory accounts to principal statements and charges schemes, the regulatory process has transformed into a formidable machine that demands to be fed.

In 1990 the annual return had 16 tables and 64 pages of reporting guidance. In 2010 there were 77 tables and 854 guidance pages. The man hours - by companies and ourselves - that go into checking, querying, analysing and quality checking this are considerable. This is not sustainable. So we set up our regulatory compliance project to look at how we need to change. With the successes we have under our belt, now is the time to focus just on the riskiest areas rather than analysing everything in sight.

This means we will have to find new ways of identifying those risks. Where is failure most likely? We could learn this from more sophisticated customer complaint analysis, from greater use of our whistleblower charter, from listening to stakeholders - environmentalists, investors or others. Or from targeted information requests. Companies would benefit from a reduced reporting burden, while we would be able to better protect consumers by focusing our resources on the areas where they are most required. And, of course, all our costs would be reduced.

We set out our initial thinking on how we might achieve this in our report Getting it right for customers - how can we make monopoly water and sewerage companies more accountable? And we have sent a clear signal on our commitment to reducing the amount of data companies need to provide us with. For 2010-11 we are not asking companies to provide extensive commentaries on each section of their annual June returns. One company provided us with 800 pages of commentary last year. This year they won't have to do that and we won't have to read and analyse those 800 pages.

But the most important thing if we are to move away from a one-size-fits-all to a more risk-based approach, is a change in culture. We are used to having a lot of data to analyse in this sector but we all need to move away from that. Water companies will increasingly need to manage their risk. Regulators will need to let go, standing back where appropriate and focusing on the areas that matter most to consumers.

A pivotal momentOur world is changing and we need to adapt. Only by working together - government, regulators, companies and consumers - can we deliver sustainable water and ensure that customers continue to receive the safe and reliable services they expect at a price that is clear, fair and affordable.

Just as we were at the dawn of privatisation 21 years ago, we are at a pivotal moment - and we need to act decisively as we did in 1989 to ensure the continuing success of the sector.